Wall Street will look to Fed for global risk impact

Published 6:22 AM ET Mon, 26 Jan 2015
Reuters

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The Federal Reserve could be key for Wall Street next week as investors get to hear from the U.S. central bank for the first time since a series of moves by its global peers, including the European Central Bank's massive stimulus plan.

Thursday's larger-than-expected stimulus package from the ECB lifted U.S. stocks, helping indexes post gains for the week after three straight weeks of losses. But the increased stimulus measures from the ECB and elsewhere globally, including the Bank of Canada, may make it tougher for the Fed to move ahead with its own plan to start raising interest rates by mid-year, lest U.S. economic policy move out of sync with the rest of the world.

Brendan McDermid | Reuters

Traders work on the floor of the New York Stock Exchange.

"Global central policy is not one of their mandates, but I think they have to acknowledge it, because this is not just global economic headwinds, this is actually the moves of other central banks. They've got to take that into account," said Erik Davidson, chief investment officer for Well Fargo Private Bank in San Francisco.

Should the United States raise rates when other major developed economies are being more expansive, that could boost the dollar, putting further pressure on commodity prices—which because they are denominated in dollars become more expensive for non-U.S. investors—and adding to the threat ofdeflation.

The Fed is expected to reiterate that those global risks have not yet put the U.S. recovery or the Fed's rate plans off track when it issues its policy statement at the close of its two-day meeting on Wednesday.

The timing of the Fed's eventual rate move has been a top concern for investors. Stocks rallied when the Fed said after its December meeting that it would take a patient approach toward raising interest rates and gave an upbeat assessment of the U.S. economy.

The sharp decline in oil prices that began last June and worries about deflation could keep the Fed on hold for longer, analysts said.

"It bodes well for the Fed to be patient," said Peter Cardillo, chief market economist at Rockwell Global Capital in New York. "There's no inflation here; the problem is deflation. If oil prices were to go lower, that could create more of a problem."

At the same time, more money has been moving from the U.S. market into European stocks as a result of the ECB measures, adding to concerns for U.S. stock investors.

Sharp declines in the euro, which hit an 11-year low against the dollar on Friday, make European stocks cheaper, especially compared with U.S. equities.

Flows into EPFR Global's European regional equity funds rose to one-year highs in the week leading up to the ECB announcement, EPFR Global said. Exchange-trade funds tied to Europe rallied following the ECB move this week. The SPDR Emerging Europe ETF jumped 3.7 percent this week, its biggest weekly gain since September.

Underpinning the argument for U.S. stocks, though, is the growing strength of the U.S.economy while overseas economies have been weakening.

"European equities will likely improve in the short term, but in the medium term equity performance is likely to be tied to the performance of the real economy," Rob Waldner, chief strategist at Invesco, wrote in a note this week.

Next week also marks one of the busiest weeks for fourth-quarter U.S. earnings, with 141 S&P 500 companies slated to report. Among them are several top technology names including Apple and Microsoft.